SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings has downgraded the following San Juan Water District
(SJWD), California debt ratings to 'AA' from 'AA+':

--$29.3 million San Juan Water District revenue certificates of
participation (COPs), series 2009A;

--$13.5 million San Juan and Citrus Heights Project revenue COPs, series
2012A.

The Rating Outlook on both series of bonds remains Stable.

SECURITY

The San Juan Water District COPs are secured by net water revenues of
the San Juan Water District.

The San Juan and Citrus Heights Project COPs are secured by payments to
the San Juan Suburban Water District Financing Corp. from the San Juan
Water District (on parity with its other COPs) and the Citrus Heights
Water District on a joint and several basis; there are no step-up
provisions between the two. Each district's payments to the Financing
Corp. are secured by an absolute and unconditional pledge of their
respective net water revenues.

KEY RATING DRIVERS

SUSTAINED LOWER FINANCIAL MARGINS: San Juan's financial performance has
weakened in the past three fiscal years due to a sharp decline in water
sales and increased expenses related to drought. While debt service
coverage (DSC) remains adequate and liquidity remains strong, the
sustained levels of lower coverage are not consistent with the 'AA+'
rating.

DROUGHT REGULATORY PRESSURE: The state of California ordered San Juan to
reduce water usage by 33% from 2013 levels in response to a statewide
drought emergency. While local water supply conditions have improved in
2016 with El Nino rains and some easing in drought restrictions is
expected, some degree of conservation has likely become habitual. Usage
levels may remain low.

STRONG DEBT PROFILE: San Juan's direct debt burden is very low at about
$800 per underlying retail customer. The district has no further
borrowing plans, which will allow the debt burden to decline gradually.

HEALTHY SERVICE AREA: San Juan provides essential services to a sizeable
and economically healthy suburban service area as a retail and wholesale
water provider.

WEAKEST LINK APPROACH: The San Juan and Citrus Heights Project rating is
based on a weakest-link analysis because the COPs are secured a joint
but not several obligation of the two water districts. The rating is
based on the credit quality of San Juan Water District, which is
responsible for about 90% of debt service payments.

CITRUS HEIGHTS PERFORMS BETTER: Citrus Heights Water District purchases
wholesale water from the San Juan Water District. Citrus Heights is a
retailer to a smaller, less affluent part of the overall San Juan
service area. Its credit quality is supportive of the 'AA' rating on the
bonds issued by the Financing Corp.

RATING SENSITIVITIES

FURTHER FINANCIAL DETERIORATION: The ratings could come under further
downward pressure if the utility's financial performance slips further
on a sustained basis. The stable outlook reflects rate action taken
mid-year in fiscal 2016 that is expected to reverse the downward trend
in margins.

CHANGE IN SAN JUAN CREDIT QUALITY: A shift in the rating of the San Juan
Water District would result in a corresponding rating change on the
bonds issued by the Financing Corp.

CREDIT PROFILE

The San Juan Water District provides retail and wholesale water services
to about 182,000 residents in a 46-square-mile suburban service area
about 25 miles northeast of downtown Sacramento. It provides retail
services to 10,500 accounts and wholesale services to the Citrus Heights
Water District, Fair Oaks Water District, Orange Vale Water Co., and the
city of Folsom. The district's service area is largely residential and
nearly fully built out.

FINANCIAL PERFORMANCE WEAKENED BY DROUGHT

San Juan's historically strong financial performance weakened more than
expected in the last three years due to a severe and ongoing California
drought. Fitch calculated DSC fell to 1.7x in fiscal 2014 and is
projected to drop to 1.4x in fiscal 2015 (unaudited), well below the
district's average of 2.3x in the four years before the drought (2010 to
2013) and below Fitch's sector median of 2.1x. The decline reflects a
particularly large state water conservation mandate, as well as deeper,
earlier drought conservation due to local supply conditions. Free
cash-to-depreciation fell to just 52% in fiscal 2014 and an estimated
33% in fiscal 2015.

Another year of below-average coverage is expected in fiscal 2016, but
the exact degree of the weakness is unclear given management's
uncertainty over final projected sales volumes. Fiscal year-end is June
30, 2016 but the utility does not currently have a long-term financial
forecast, including results for fiscal 2016.

SJWD has significant financial reserves to withstand expected
variability in revenues. Unrestricted cash and investments equaled a
robust $23.1 million, or 607 days cash, as of June 30, 2014, exceeding
the 485-day median for 'AA' category utilities. However, this sizable
increase from $14.4 million in fiscal 2013 reflected a reclassification
by the auditors of formerly restricted reserves. Cash is expected to end
fiscal 2015 strong at $27.7 million, but the 2015 audit is not yet
available.

MANAGEMENT TURNOVER, LACK OF DEPTH

The utility has a very small finance staff and has suffered repeated
turnover of finance directors. The utility was unable to provide a
financial forecast, which is a typical practice among California water
agencies given the variability in water sales in the region, and its
2015 audit is not yet complete, more than nine months after the close of
the fiscal year. The audit has been delayed by the implementation of a
new accounting system. Management now believes that it has sufficient
staffing to allow resumption of typical financial planning in the
future, and it believes it has largely succeeded in implementing its new
accounting software. The 'AA' rating reflects Fitch's expectation that
the district will resume more timely reporting and forecasting.

STATE FORCES CONSERVATION

An extreme California drought reduced San Juan's water sales, as both
state regulatory action and local supply constraints decreased water
usage. The California State Water Resources Control Board imposed
mandatory conservation targets on every retail utility in the state to
combat a drought emergency in 2015. The board ordered San Juan to reduce
its production by 36%. It has since reduced the conservation target to
33%. District management expects additional significant reductions in
the conservation target when the state board meets to review drought
regulations again next month. San Juan has allowed residents to resume
normal water use with only voluntary conservation efforts. This approach
could boost sales for the remainder of the current fiscal year; however,
the durability of the improvement will depend on state regulatory
decisions that have not yet been made.

SJWD's supply position is generally strong with high-priority water
rights significantly in excess of demand on the American River, which
feeds Folsom Lake, California's ninth largest reservoir, but the current
drought has highlighted the risks of the agency's surface water
dependence. Declines in Folsom Lake levels early in 2014 threatened to
draw water levels below intakes that serve San Juan and would have
required the U.S. Bureau of Reclamations to use water pumping barges to
serve the agency, prompting a period of deep conservation even before
state regulatory action. The reservoir has since recovered to well above
the levels of San Juan's intakes, and the risk of actual supply
interruptions appears to have receded.

SOLID RATE FLEXIBILITY

San Juan has generally shown solid rate discipline but has not raised
rates enough to stabilize net revenues in the current drought. The
utility raised base rates by 15% on Jan. 1, 2016 and imposed a 10%
drought surcharge on users. Even following the sizable rate increase,
base retail water rates appear very affordable with 10 hundred cubic
feet (HCF) of water costing $40.47 a month, or 0.4% of median household
income, and wholesale rates appear competitive compared to other
wholesale water providers in the state of California.

STRONG DEBT PROFILE

SJWD's direct debt burden is quite low at $43.2 million, or $800 per
customer. This is well below Fitch's sector median of $1,865. With no
further borrowing planned, the debt ratios are expected to continue to
decline rapidly. Amortization of the district's outstanding debt is
about 70% repaid in 20 years.

The district has regularly maintained and improved its infrastructure
with minimal borrowing. Capital expenditures averaged a solid 211% of
depreciation over the past five years. Future capital plans are driven
by the need to maintain the district's aging pipe system, but appear to
be quite manageable.

SOLID SUBURBAN SERVICE AREA

The district serves a sizeable and diverse suburban Sacramento service
area. The metropolitan area's non-seasonally adjusted unemployment rate
was near the national average at 5.4% in February 2016. The district's
retail service area is centered on the community of Granite Bay, which
has median household income about twice the national level.

CITRUS HEIGHTS CREDIT CHARACTERISTICS SUPPORT RATING

The Citrus Heights Water District (CHWD; obligor for about 10% of the
San Juan and Citrus Heights Project COPs) is the largest of San Juan's
wholesale water customers. CHWD serves the suburb of Citrus Heights and
small areas of adjacent communities. Financial performance is solidly
above Fitch's sector medians for all rating categories with DSC
averaging 6.5x over the three years ended Dec. 31, 2014 and unrestricted
cash and investments equal to 530 days cash. The district's direct debt
burden is low at just $286 per customer. Debt levels are expected to
decline rapidly because the district has no further borrowing plans and
amortization of outstanding debt is very rapid with 74% of principal
repaid in the next 10 years.

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